#1 Investment Weekly – Nothing’s changed

It doesn’t really matter when the following headlines were printed, except to say it was more than 40 years ago (actually it was July 14, 1967). The main point is that the issues that were being written about on the front page of The Times of London are still around today.

I wasn’t really looking for anything in particular when I came across an archived front page of the Times on its excellent web site. I was really surprised to find the similarities with today. Here is a list of the issues that were being reported on, and a curious advertisement on that day, so many years ago. First, the Times reported on a terrorist attack in Aden (a country on the southern edge of the Arabian Peninsula), in which several British soldiers were injured. This headline reminds us all that the problems in the Middle East have been around for much longer than we care to remember. The British were on a mission to exit Aden, but the locals wanted them out quicker than planned. The terrorists were also giving the British imperialists a bloody nose just for good measure. Aden was important because it overlooked the southern entrance to the Red Sea and therefore the important trade route through the Suez Canal. However, with modern transportation and the handing over of the canal to the Egyptians, a presence in Aden was not deemed strategically necessary. The US-led coalition in Iraq is probably thinking that occupying Iraq is strategically important. But times will change, and as the West weans itself off its dependence on oil, US forces will eventually leave Iraq – but only after receiving several kicks up the backside along the way out.

Coincidently, in the bottom right hand corner of the front page was an advertisement by Cleveland Discol. The advertisement was for petrol which incorporated alcohol. The spiel for the ad was that adding alcohol to the petrol that drove your automobile (they weren’t called cars yet) aided its efficiency and performance. What a shame that the idea of Cleveland Discol, or companies like it, never really took off! I don’t think that alcohol is the solution to the current fuel crisis, but rather that the use of alternatives had not been fully exploited. We would never be in the current situation of rampant price inflation – induced by the surge in the price of oil.

Part of the reason why Discol wasn’t popular and didn’t take off was because oil supplies were plentiful and were controlled by friendly regimes. Oil in fact was so cheap that, in another article, members of the British Parliament were discussing what to do about containing a bout of rampant disinflation in the UK. MPs were proposing a devaluation of Sterling to solve the issue. Of course, right now, the situation is quite the reverse. But I don’t believe the US government, or anyone else for that matter, is debating a revaluation of a particular currency to ease the effects of price inflation on the local population – except perhaps China.

What we have heard instead is pronouncements by officials that a strong US$/Euro is in the best interests of the country/region. They cannot directly legislate to change the direction of a currency. However, they can certainly try to influence a currency’s direction through the power of words – in the short term. Unfortunately, there has been some confusion over what to say, with US officials sounding like Europeans (raise rates to fight inflation) and Europeans sounding like Americans (ease off on the rate hikes, economic growth is slowing so inflation will ease anyway). There is also talk of some sort of new global currency agreement, which would be dubbed Bretton Woods III. Against this background, there are some signs that the US could ease interest rates again before the end of the year (particularly as oil companies are acting quickly to lower petrol prices as crude has fallen recently and as the economic statistics are getting grimmer by the day).

The knock on effect for Hong Kong equities has been clear – an unaccounted for interest rate cut would do wonders for Hong Kong’s property/bank-heavy stock market. News that New Zealand cut its interest rates could be the trigger for similar moves by central banks charging high interest rates in a weakening economy. This change in direction explains the third trend-change of the index in the past two weeks, and the 1,000 point rally last week. An encouraging feature of last week’s action was the pick up in turnover. And with volume barely making 100 billion, there is a suggestion that the buying was concentrated on blue-chip stocks. However, at this time, it is not safe to rely on the technical picture and there is no clear indicator to confirm that the test of 20,900 on the HS Index was the last bottom of the current bear market. It doesn’t help that 1) there is no concerted agreement regarding which direction officials are willing to talk the US$ dollar and 2) the long oil/short equities trade is still in play.

The US Treasury is probably hoping for some help from the Federal Reserve, because of the record amounts of bonds it will be auctioning in the next few weeks. The bonds are being issued to pay for the nationalization of the US economy (something that the Russians, Chinese, Cubans and Colombians will be quite amused to see). This explains why the Senate needed to get investors out of the oil/commodity markets and why those officials were talking up the US$. Someone has to buy these bonds. The Chinese and Russians and Middle Eastern emirs will have to buy. If they don’t a collapse of the US housing market will trigger a global recession, something that no one should wish for.

I only wish I could say for sure that I am happy holding this newsletter’s position in Dore (628.HK). The latest news was not good. Both Capital Research and Mr. Mark Kingdon, have reduced their stakes in the company (with the latter basically cutting his loss after receiving his shares at the placement price of 75c and selling below 30c). However, we know that the shares were sold to a relatively safe pair of hands in UBS Asset Management and Morgan Stanley (at prices ranging from 28 to 22 cents). Why Capital and Kingdon would want to take a loss on their investment is uncertain. Selling their shares so close to the result announcement last Friday was bordering on being naughty (they got away with it because the company issued a profit warning at the same time i.e. the public was aware of the goodwill write off).

#26 My art

I’ve been creating pieces of art since I was a youngster. I have posted some of my work here (with comments), in chronological order, not just to show what limited talent I have, but also to show how the style of the body of work has evolved over the years.

Titled, Untitled, this elaborate doodle was the piece that attracted the attention of my art teacher, who reckoned I had some sort of talent. I believe I was about 14 when I produced it – which explains why it’s in a state of disrepair.

The piece below was influenced by my interest in surrealist artists, in particular Salvador Dali. My interest in Dali was such that I wrote a paper about the great man for my A Level, and visited Figueres, which is a town in southern Spain dedicated to Dali’s work.

The next piece, called Still Life, is influenced by the great Dutch still-life painters. It’s unfinished, but gives some indication of the level of technique I had reached at 16, when I painted it. O Level Art in the 70s required that the student had to demonstrate a certain level of competence with paint.

After I left school I continued to paint, but in a freer style, with influences ranging from early Picasso, as the piece below illustrates. I would buy the canvases from one of the many reproduction art studios of Chungking Mansion on Nathan Road. The one I used for the Circus work below was too large to get into a taxi, so I walked it from Tsimshatsui to Wyllie Road in Jordan where I was living. Unfortunately, it was quite windy on the day, so the walk was tretcherous and took a while.  

I gave the piece below to my favourite aunt, because she took a shine to it. Inspiration came from court painters like Velasquez. Its titled Court.

    

Inspired by the Surrealists, I painted this next piece called Red Bird.

 

The next painting is more graphic art than anything else. It’s titled Penguin and is a follow up to an earlier piece, done in the same style, of a cow, with inspiration from Keith Haring.

#25 Seen no more

Here are a couple of images that you will not be able to see in Hong Kong anymore. The first is a British flag flying outside St George’s Building in Central.

The second image is a British post box. This one is preserved in the Central Post Office building. It is tucked away under a set of stairs. I’m not sure why the opening has been plugged up. I suspect that the Post Office believes someone would actually put a letter in the box, or even that someone might want to put something other than a letter in there.

#24 Artless

Hong Kong is an artistic desert. This is not a very surprising statement. After all, Hong Kong has a very short history, and, as most of the population are descendents of poor migrants, they were more interested in filling stomachs rather than spending time producing and appreciating high art.

There are some pieces of art scattered around Hong Kong’s skyscrapers. The two photographs above and below are sculptures around Central, but they are rarities. The two sculptures are by British artists Henry Moore and Elizabeth Frink.

#1 Investment Weekly – False turn

False signals are trading opportunities (if you have the right mentality to spot them). It shouldn’t be too surprising to find that false signals only occur in down markets. In a sense this is the nature of the beast. On the way up, optimism abounds, and prices can only go higher (no one ever says “it’s time to exit, panic sell”). But when prices are declining, there will always be occasions when investors believe the worst is over. One of those occasions cropped up last Friday. It also happened on June 3-5.

HS Index’s false parabolic (SAR) signal

 

I’m not excusing myself for getting caught in the headlights of the parabolic – I’m human after all. However, there is good evidence that the parabolics provide extra performance and are good at confirming medium term trend changes – providing an investor waits for the third day and doesn’t get carried away with the noise of the market. The table below calculates the movements of the HS Index since the bear market was confirmed, assuming an automatic buy and sell at each turn in the parabolic (assuming the decision is made after the third day of each direction change, thus eliminating the false signals of June 3-5 and July 15-16).

Parabolic change performance

 

The index has actually fallen 19% since January 11, but using the parabolic turn strategy has actually produced a 20% decline – that’s a 7% outperformance!

The chart on Friday July 11 was saying “the market has turned; expect a short term rally lasting about a month, with one to two thousand points upside”. All the conditions were there: Fannie/Freddie were being saved by the US taxpayer; the US$ had reached a point of no return, and had to pull back from the precipice, there had been a pretty hefty decline from the 26,000 near term high.

I admit I should have waited a couple of days more to check that the parabolic’s turn was confirmed, but I was willing to bet that the turn was not the same as the false signal of early June. I was willing to bet that human nature had not changed and the born optimists that invest in equities had suddenly taken over again. This is clearly not the case. Instead, it is possible that the end is near and a final plunge is coming.

One problem with depending on a single indicator to make investment decisions is that they ignore other issues. In the case of the parabolic, there is no indication of whether turns are accompanied by rising/falling volume etc. It is possible to combine indicators to produce a better picture of market conditions. Here’s a quick combination-indicator that incorporates factors such as turnover change, the distance from the top of the Bollinger Band, and the top of the Ichimoko cloud, as well as the market’s advance/decline ratio and what the parabolic is doing.

YTD multiple indicator index vs HS Index

 

The indicator matches the HS index quite closely, but there is a problem with the multiple indicator right now, because it is showing a turn in the index, which has now been confirmed by the parabolic to be a false signal. The correlation between the indicator index and the HS Index matches the parabolic’s fit with the benchmark at 0.45, so using one or the other is immaterial in terms of daily performance. In other words, one indicator is as good a measure of success as a mixture of signals.

As with most things related to equity investment, there are multiple factors that need to be assessed before making an investment decision. From what I can see right now, it would appear to me that the false turn signal suggests the final act of the downcycle is near. There are several candidates that could qualify as the final nail in this bear market’s coffin – some are rusty: some are brand new. The most obvious rusty nails include: the weakening US dollar, losses at financials, conflict over Iran and disruption ahead of the Olympics. The not-so-obvious nails include: losses or profit-warnings at non-financials, a rise in interest rates, a big corporate collapse or a hedge fund closure (and the resultant domino effect).    

One of the items on the list of brand new nails impacted the price performance of this newsletter’s only stock pick of the year – Dore (628.HK). The company’s management has decided to write off goodwill on its balance sheet immediately. Taking a one shot hit is a very conservative move. Management has taken the decision before meeting its auditors on the subject – which should be applauded. Dore’s cashflows are unaffected by the decision, but a profit warning is always construed as meaning trouble, and the stock has been marked down by another 40%. Although the recommendation to buy Dore was based on 1) its cash flow generative, growth business 2) high price targets touted by analysts and 3) the company’s large institutional shareholder base, there was an emphasis on the very attractive dividend yield of 30%. The company will be announcing its full year results this week, and all eyes will be on the dividend payment. If the company defers the dividend, then the smoke-without-fire sellers were right. If there is a payment (expected to be 7 cents), then there should be an immediate price reaction.